Careful Who You Bail Out

I'm fairly pessimistic that the scared as kittens Democrats will alter the financial bailout plan in any significant way from what President Paulson and Vice President Bernanke want. But Ian Welsh at FDL has come up with a potential plan that's certainly more thought-out than my meandering idea to trickle up the relief:

What the government should do instead is set up a Trust to buy mortgages at a discount, then reset them to 20, 30 or 50 year fixed mortgages with a reduced face amount. If the house is later sold, half of the increase goes to the government, so that taxpayers make a profit. The mortgage cannot be paid off before the end of its term so that financial scavengers cannot come around and, as they did over the last ten years, say "get rid of that mortgage, and take ours. It's better. Honest!", because we know that when they say better, they don't mean better for the mortgage holder. The mortgage is attached to the property and is transfered to any new buyer. And the mortgage cannot be removed from the property, and any new mortgages attached to the property are junior to the government mortgage.

End results:

a) a floor is set for mortgage prices. (Whatever discount the government is buying at. Probably 60% to 70%, but it should be based on what the long run price was in the area before the housing bubble.) This ends the confidence crisis in these securities, because there is now a market price—what the Trust will pay.

b) It helps homeowners stay in their homes.

c) It gets rid of overly complex mortgages and puts in their place a dead simple mortgage that anyone can understand.

d) It punishes lenders, which they deserve, for making loans they should never have made.

e) While it does keep homeowners in their homes, it doesn't let them off scot-free either. In exchange for a good mortgage they can service, they give up some of the future profits on sales in their houses.

f) The government will almost certainly make a long term profit on this. This is important, because it's not fair for people who aren't underwater on mortgages to spend hundreds of billions or trillions bailing out those who are without some expectation that in the end it won't be more than just a transfer of wealth to them and to investors and banks.

The government is likely to make a profit on the current plan in the long term. But the middle class would get squeezed. This is a terrible financial dilemma and something needs to be done about it. But ordinary folks should not be forgotten.

And if they do, you're going to create a scenario where the next President cannot implement any kind of activist agenda. Universal health care? Forget it. Investment in green jobs? Sorry, no room at the inn. I don't know if it's intentional the way Bush I stuck Clinton with Somalia - the markets tend to work on their own calendar. But clearly, a massive bailout would de-fund a progressive agenda at precisely the time when it's ascendant. Democrats have a choice to make that impacts their own future.